Stock averages in bullish pattern

Kevin Marder is a guest columnist and a co-founder of MarketWatch. He is
principal of Marder Investment Advisors Corp. and a contributor to
The Gilmo
Report. Previously, he served as chief market strategist for Ladenburg Thalmann
Co. and developed institutional fixed-income risk management software for
Capital Management Sciences.

Shares continue to give a good account of themselves. The up-and-tight action of the past half-dozen sessions is consistent with behavior seen in a bull market. This occurs as a move up is followed by a tight price range as buyers step away and sellers fail to emerge.

The bottom line is that institutions are not exiting this market despite widely-publicized concerns over the fiscal cliff, Europe, and the sluggish domestic economy. For all of the concern over uncertainty which appears to be permeating the corporate suite, shares are having none of it.

When the market does the unexpected, as it does now by rising in the face of a deck that appears stacked with the wrong kind of cards, the message is more important - and by multiples.

A good market needs a wall of worry to climb. The fiscal cliff brings back memories of Y2K, of how a market fully cognizant of an impending, purportedly-negative event did the unexpected and became richer in advance of the event and also post-event.

The backdrop actually improves at the margin. Jobless claims, nonfarm payrolls, and retail sales have improved in recent weeks. Home prices rise in recent months. Are shares peering through the economic fraying of Q2 to see something better on the other side? Is the market discounting a change of administration/Congress? Or is QE3 still seen as a panacea of sorts?

The reason for strength amid an apparent lack of catalyst for upward revaluation is only apparent in retrospect. However, the lack of real strength in gold may indicate shares are moving on something more than hope for more Federal Reserve accommodation.

The view here based on the type of issues outperforming - late-cycle industrial and technology, not early-cycle financial and consumer - is the market is discounting into current prices an economic pick-up in '13.

Otherwise, anyone reading these reports for very long understands the importance, at least to this column, of a stock that follows a strong prior up move with a period of sideways price movement. This back-and-forth price movement is called a base. A base brings buyers and sellers into balance after a trend up or down.

Its significance is that history's biggest-winning stocks began their giant moves from one. Bases take a number of different shapes. One of the most common is the cup base. The averages are forming them currently. This is bullish for the intermediate-term.

Also, quite constructive in a slightly longer-term sense is a comparison of the last two retracements in the S&P 500, as shown in the below chart. The first retracement ("B" to "C") lasted five months and retraced about 82% of the prior up move. The second retracement ("D" to "E") lasted nine weeks and retraced about 44% of its prior advance.

Retracements of lesser extent and shorter duration tend to resolve themselves upward in a more pronounced manner. This participant recalls the '90 bear market, which was short and sweet, and which led to the explosive '91 bull market.

Among the names, Michael Kors Holdings
KORS, -1.28%
was noted here in Tuesday morning's report ("At present, it does not offer attractive entry. However, it will be monitored to see how it completes the right side of its base. This in light of the preference here to stalk titles with a modicum of overhead supply, technically.").

As the below chart shows, on Tuesday price made mincemeat of any "overhead supply" that was destined to get in the way of its progress up the right side of its cup base. Volume rose to 414% above average. At this juncture, shares of the luxury apparel marketer should be monitored for a pullback or perhaps the formation of a handle prior to entry. It is always possible the stock just takes off from here without pausing, but this is a lesser probability, and would represent a higher-risk entry.

Pharmacyclics
PCYC
was noted here a week ago ("...a junior-sized position would make the most sense should price take out the suggested pivot.") The suggested pivot of 60.09, corresponding to the high of the cancer-drug developer's six-week base, was taken out Wednesday on light volume (44% less than average). The question then becomes whether entry is/was warranted given the subpar volume. The answer has to do with whether one is an aggressive or conservative speculator.

An aggressive speculator, realizing that the stock was perhaps the glamour during the Q2 market, doubling in just six weeks, would take the entry, using a junior-sized position. This in light of the slow August trading conditions which generally do not reward breakout stocks with 20%-25% follow-throughs. Generally.

In summation, historical precedent shows that a multi-month, cup-shaped basing pattern usually results in a breakout and richer quotations. At present, the averages form this pattern. For the most part, leading growth stocks do not offer attractive entry. Thus, the momentum player in glamour titles patiently sits in a generous cash position.

At the time of this writing, of the stocks mentioned in this report, Kevin Marder or an affiliate thereof held no positions, though positions are subject to change at any time and without notice. The information contained herein may have been previously disseminated.

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